The End of Microsoft

Microsoft has been a leader in the software industry for over thirty years, but its reign as a powerhouse built on the sale of computer code may be coming to an end. The company is far from dead, however, as it builds a new future in the increasingly competitive realm of hardware as evidenced by the Xbox, Surface, and now the acquisition of Nokia’s devices and services. The end of Microsoft as a software giant marks its beginning as a hardware player.

The rise of mobile computing has not been kind to Microsoft. The firm built its empire on a combination of sales of the Windows operating system and its Office productivity suite. While the enterprise market remains attached to Microsoft, the personal computer market in developing countries is saturated and consumers have flocked to phones and tablets as the digital wave of the future. Though initially a competitor with its Windows Mobile offerings in the early 2000s, iPhone and Android have decimated Microsoft’s mobile operating system market share, now down to 3.7% this year.

Microsoft has tried valiantly with its new Windows Phone offerings to stay relevant in the smartphone age, but a modern aesthetic and good feature set are clearly not enough to do to the smartphone industry what Microsoft did to the desktop. The executives in Redmond, Washington at Microsoft’s headquarters may be removed from Silicon Valley, but they are not oblivious.

In September, Microsoft showed it understood its failure and Apple’s success. By announcing the acquisition of Nokia, Microsoft will be able to sell a fully vertically integrated product. Google has recently followed a similar approach with its purchase of Motorola as the vehicle for its Android operating system. By making the software and hardware together, Microsoft can make refinements it could only dream of in the past. To paraphrase Steve Jobs’ philosophy behind Apple’s success, they can make it “just work.”

A Microsoft phone running Microsoft software brings an even greater advantage beyond its fit and finish. People don’t buy software anymore. One can’t purchase the operating system of their choice for their phone as they could with their PC. Even on the PCs that remain, Apple’s transition to free distribution of its operating system and productivity suite makes Microsoft’s sales model seem more archaic by the day. One buys the hardware. That’s where the profit is. In the first quarter of 2012, smartphone industry profits were $14.4 billion, much of it going to Apple. In that same quarter, Microsoft made only a profit of $5.7 billion from the entire company. With growing sales every year and large margins on hardware, smartphones are clearly the place to be.

Hardware sales aren’t new to Microsoft. Since launching the Xbox gaming console in 2001, its Entertainment and Devices Division generates billions in revenue annually. Even when people don’t think of Microsoft as a hardware company, its vertical product approach in video gaming has been successful for over a decade.

The acquisition of Nokia and a future of Microsoft-branded phones was hardly unexpected. Lagging excitement at Microsoft from underperforming Windows Phone sales through third party hardware manufacturers and the bungled launch of Windows 8 combined to push CEO Steve Ballmer into retirement and generate speculation for something new.

In 2010, former Microsoft Executive Stephen Elop was appointed CEO of Nokia. As the first non-Finn to head the company and an employee from the ambitious Microsoft culture, some viewed him as a Trojan horse intent on ultimately making Nokia into a subsidiary of Microsoft. His initial decision to have Nokia, a company that failed in its adaptation to the rise of smartphones, discard its homegrown operating system in favor of Microsoft’s new Windows Phone software was a cause of great concern for industry watchers. Windows Phone was untested and Android seemed to be a much better choice. With the argument that he didn’t want Nokia to become another generic Android phone manufacturer, Elop pushed ahead with Windows Phone development, ultimately culminating in the current Lumia line of Nokia smartphones.

Windows Phone was not Nokia’s savior, however, and it has continued to lose hundreds of millions of dollars quarterly. Its stock price has plummeted and Microsoft has appeared as its savior. Stephen Elop recently said, “I feel sadness because we are changing Nokia and what it stands for. And for all of us…there is ambiguity and concern because it is so hard to know what the future holds. But we have to do the right thing.” It’s unclear if Stephen Elop was in fact a Trojan horse, but his agreement to Microsoft’s offer of acquisition and a new position as an Executive Vice President at his old company does not suggest someone who always had Nokia’s best interests at heart.

With its expansion into direct hardware design, Microsoft is aiming to be the next Apple before smartphone buyer loyalties become too cemented. It’s unclear if it will be successful, as few complained of Windows Phone as an operating system or the third-party hardware it was sold on before. At the same time, Microsoft was a surprise success in the video game industry despite launching its first console decades after competitors. Microsoft is still a giant, and it has the reserves to invest and persevere for some time. Whether it can ever make a successful transition to hardware giant, though, is something only time will tell.